Thinking of up-sizing, making a lifestyle change or purchasing an investment property but don’t know if you can afford it?
When people purchase a property, particularly an investment property, we often find that they have included only the absolute obvious into their budget calculations:
Mortgage repayments – Rent they can achieve = Surplus or Deficit
In other words, some beginner investment property owners may mistakenly believe that if their weekly rental income is more than (or close to) their weekly mortgage repayments, they will be breaking even or making money each week.
If only these two variables are included in your calculations, you will most likely be left tipping much more money into your investment that you expected. This can significantly affect your lifestyle and, worse yet, the equity and capital you had planned to build in the property.
Whenever you are making a budget for an investment property, you must allow for the worst case scenario.
Why? Because you should be 100% sure you can afford an investment property even if things don’t run as smoothly as you would have hoped. It’s also very important you have completed a realistic and thorough budget BEFORE purchasing the property. A good budget can also help you tell whether the property will be a good investment in terms of cash flow. You don’t want to get caught empty handed!
What Should You Include in Your Budget?
Mortgage Repayments & Bank Fees:Including the interest, not just your capital payments. Make sure you also include any fees associated with your mortgage.
Insurance: Because it is an investment property, you need more than just home and contents insurance. Budget for Home and Contents Insurance and Landlords Insurance.
Rates: Make sure you include any council, land and water rates into your budget as these will form a large chunk of your expenses.
Body Corporate Levies: If you’re looking at purchasing a unit or apartment, you will more than likely be required to pay Body Corporate Contributions. You will be surprised how much these can cost per year so make sure you find out exactly what these are and include them in your budget.
Maintenance & Up Keep: Because you’re going to be renting the property out, you won’t have the luxury of doing the maintenance yourself or waiting until you can afford it. Even though you won’t know exactly how much things cost until they’re required, a good rule of thumb is to budget 2.5% of the property’s value per year for your maintenance budget. This will also allow you to minor upgrades (for example: fresh paint and carpets) if you don’t blow your budget on repairs in that year.
Maintenance Warning: Make sure you assess the age and make of the property, for example, brick homes require a lot less maintenance than Queenslanders. In any property built eight or more years ago, many appliances and fittings may also begin to deteriorate. To be safe, you may also want to budget 5% of the property’s value per year for maintenance.
Property Management Fees: Unless you’ve had experience in managing properties yourself, make sure you budget for the cost of a professional to manage the property for you. If you don’t know what you’re doing and try to do this on your own, not only can it be stressful and time consuming but, if something goes wrong, it could cost you thousands.
Don’t Forget Your Acquisition Costs!
When purchasing a property, many owners only budget for their initial deposit however, there are more services you will need to pay for when purchasing a property.
Stamp Duty: Stamp duty can technically be included in your mortgage however, it will be a separate portion above the cost of the property. You can determine the cost of stamp duty by using the online calculator on the Office of State Revenue website. Make sure you add this onto the cost of your mortgage repayments.
Legal/Conveyancing Fees: You will need to engage a solicitor to conduct the relevant searches and to coordinate the legal requirements when changing the title over to your name upon purchase.
Building & Pest Inspections: Before your offer to purchase and contract becomes unconditional, you will need to have a professional building and pest inspection conducted to ensure there are no hidden surprises with the property.
Independent Valuation: This isn’t mandatory when purchasing a property as your bank will normally have one done before you lending the money however, if you’re unsure of the value of the property or you’re paying cash, it’s a very good idea to invest in an independent valuation.
After you have conducted this exercise, you will need to determine the potential income of the property if there is not already a tenant in place. Potential Property Managers will be able to provide you with a free Rental Appraisal however, some agencies have a tendency to promise a higher rent to win your business to allow for the worst case scenario. Do your own homework and be realistic. You also need to budget for you property to be vacant for 4 weeks each year to be safe. It’s not realistic that you will collect 52 weeks or rent every year without fail.
Once you have all of the information, subtract your expenses from your potential revenue. Some properties will immediately produce a positive figure in these initial calculations. If these figures are correct, your investment will be positively geared. Properties will initially produce a negative figure, which is known as negative gearing – while this may be tempting as it can result in a tax refund at the end of the financial year, if the figure is negative, you need to ensure you can afford the amount left over. If you can’t afford to lose that amount of money on your investment each year, DO NOT buy the property.
You can do this exercise on multiple properties that fit your buying requirements and chose the best one if cash flow is important to you.
Often owners will buy a property in the hope that after a few years, they will achieve capitalgain. Whilst this is possible, please understand this is risky and the more money you’re dipping money into the property to service it, the more capital gains you will need to achieve to make it a worthwhile investment.
It’s important to make sure you’re figures are correct, definitely, DO NOT wing it. Guessing costs can end in disaster, so we recommend that you do your homework and collect the appropriate figures from the relevant sources. Luckily for you (and for us!), since you are here already reading this blog, chances are you are prepared to do some thorough research already.
If you liked our information and advice and want to know more or would like to talk to us about how we can help you get the best return on your investment possible, give us a call or send us a message! We’d love to hear from you.
Don’t forget! If you have a friend or family who may be interested, refer them through to us! If they become and an Excellent Owner, we will give you $200 cash!